Japan's central bank is preparing to lift interest rates again at its monthly meeting, marking a clear acceleration in policy normalization and sending an unmistakable signal of a policy shift.

According to a report from Kyodo News on the 8th, the Bank of Japan plans to raise its policy rate from the current approximate 1.0% to around 1.25% at the monetary policy decision meeting scheduled for September 17-18. If carried out, this would mark the highest level in roughly 31 years and represent the first rate hike in three months since the June meeting.

Reuters also cited sources the same day saying that the BOJ leans toward a conventional 25-basis-point increase while considering accelerating the pace of hikes to roughly once per quarter.

The core factors driving the heightened expectations for this rate increase are the stronger-than-anticipated inflationary pressures from a depreciating yen and rising oil prices, coupled with external pressure from the United States. US Treasury Secretary Scott Bessent publicly stated on August 31 that he is "confident that the Japanese government and the BOJ will take measures that contribute to yen appreciation," a statement widely interpreted as pressure on the BOJ's rate decision.

25bps Consensus, 50bps Ruled Out

Although the market has largely reached a consensus on a September rate hike, the debate over the magnitude remains a focal point.

According to sources cited by Reuters, the BOJ has little appetite for an outsized 50-basis-point hike this month, instead favoring the conventional 25-basis-point increment.

The sources indicated that opting for 25 basis points is aimed at avoiding market disruption while allowing time to assess the impact of higher rates on corporate and household activity.

Analysts also point out that aggressive tightening could prove counterproductive. Nobuyasu Atago, chief economist at Rakuten Securities Economic Research Institute and a former BOJ official, noted that "a 50-basis-point hike could be perceived as evidence that the BOJ is panicking, drawing market attention to the risk that it is falling behind the curve in tackling inflation."

BOJ Governor Kazuo Ueda stated last week that economic and price conditions are broadly in line with expectations, implying that inflation risks have not escalated to a level requiring unconventional rate increases. He also emphasized, "We wish to continue raising rates while financial conditions remain accommodative, but on the other hand, we have already hiked five times and need to carefully assess the cumulative impact on the economy."

Faster Pace Driven by Multiple Pressures

The acceleration of the rate hike cadence reflects the convergence of multiple domestic and external pressures on Japan.

Kyodo News reported that the yen's depreciation is largely driven by the Japan-US interest rate differential, pushing up imported goods prices, and calls to correct the excessive yen weakness are intensifying, serving as a key driver for hastening the pace of tightening.

According to Reuters sources, the Middle East conflict, tight domestic labor market conditions, and yen weakness inflating import costs are jointly driving inflation higher, prompting the BOJ to consider accelerating the pace of hikes to approximately once a quarter. Nobuyasu Atago anticipates that the BOJ will raise rates to 1.25% this month and deliver another 25-basis-point hike in December or January next year to guard against accumulating inflation risks.

Since exiting its negative interest rate policy in March 2024, the BOJ has largely maintained a pace of one rate hike every six months. If this hike materializes and a quarterly cadence is established, it would mark a substantial acceleration in Japan's monetary policy normalization process.

Dovish Voices Remain, Internal Divergence Cannot Be Ignored

Despite the clear expectations for further tightening, prudent voices still exist within the BOJ.

Among the nine-member policy board, dovish members may hold reservations about the current pace of hikes, particularly as the policy rate approaches the neutral rate range estimated internally by the BOJ at 1.1% to 2.5%.

Toichiro Asada, the sole dissenter at the June meeting who voted against raising rates to 1.0%, told Reuters in July that he wants to see demand-driven inflation before supporting further hikes. Ayano Sato, a dovish newcomer who joined the board on June 30, stated that the central bank must not only focus on upside inflation risks but also account for downside risks to economic growth.

Mari Iwashita, rates strategist at Nomura Securities, commented, "It wouldn't surprise me if some board members believe a more cautious rate path is needed than the market anticipates. The BOJ is likely to stick with 25-basis-point increments for now."

Currently, Japanese bank lending continues to grow at an annual rate of 5.4%, and overall financial conditions remain accommodative, providing the BOJ room to proceed with policy normalization in a measured manner rather than resorting to forceful action.